BoE Stress Test Results: 6 Banks Pass, RBS Fails

The verdict of the stress test conducted by the Bank of England (“BoE”) is out. The U.K. banking system has been found well capitalized to “support the real economy in a severe, broad and synchronized stress scenario.”

Only the 73% government-owned The Royal Bank of Scotland Group plc RBS failed to clear the stress test that was conducted to scrutinize “the resilience of the system to a more severe stress than in 2014 and 2015.” The company was, hence, asked to resubmit its capital plan and must add approximately £2 billion ($2.5 billion) in capital. Following this announcement, Royal Bank of Scotland’s shares plunged and closed the day nearly 1.2% down on NYSE.

Of the six banks that cleared stress test, Standard Chartered and Barclays disclosed capital inadequacies, but were not required to declare new capital plans. These banks cleared the overall thresholds set by the BoE, while failing to meet the judgment-based assessment of their capital strength.

Nonetheless, since the stress test was based on Dec 31, 2015 data, the measures undertaken by these banks in 2016 to improve capital levels were not part of this test.

This is the third year of BoE stress test. Last year, all the banks had cleared it.

The primary goal of the test is to gauge how much the banks would lose in case of a future economic downturn. The test rounds aid in determining how banks would respond to another economic crisis and a slump in the markets. Hence, BoE has come up with hypothetical scenarios that were considered while conducting the stress test.

This year, the stress test was conducted under tougher hypothetical scenarios. However, the scenarios did not include the impact of Brexit.

Moreover, a fall in oil price to $20 per barrel and global GDP contracting 2% were among the other situations. Other than these, a reduction in interest rates to zero and a drastic increase in costs for fines and legal bills of £40 billion were part of this year’s tougher hypothetical scenarios.

Road Ahead

This is just the beginning for the major U.K. banks. They will be required to undergo stress tests on an annual basis. The U.S. Federal Reserve and the European Central Bank have also been conducting their stress tests on a yearly basis.

We believe that such measures would serve to improve U.K.’s financial stability and aid the overall global economic recovery as well. Further, this will boost the lending capacity of banks, thereby bolstering their financial positions.

Among the banks mentioned above, Barclays, HSBC, Standard Chartered and Royal Bank of Scotland carry a Zacks Rank #3 (Hold).

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